NEW YORK – The economy should grow at slightly above 3% a year as the recovery strengthens, and the recent price spike in commodities and energy that are exerting upward pressure on inflation, should be transitory, according to Sandra Pianalto, president and CEO, of the Federal Reserve Bank of Cleveland.
Pianalto noted that the recovery has been “gradual and bumpy,” but now “rising incomes and rising profits are supporting growth in retail sales and business demand, which in turn fuels more growth in incomes and profits,” she told a University of Akron alumni panel, according to prepared text of her remarks, which were released by the Fed.
Growth in exports, manufacturing and business investment in equipment and software have been the foundation of the recovery and should continue. However, the housing sector remains weak. “Historically, investment in new home construction and improvements to existing homes help the economy snap back quickly from recessions,” Pianalto said, “But in this recovery these investments have actually fallen.”
Employment also poses a problem, with nearly 9 million jobs lost during the recession. “While the employment rolls are gradually improving, to date we’ve only added back 1.3 million jobs,” she said. “Reflecting these labor market conditions, average household income excluding government benefits is still down nearly 7% from its 2007 level. And with incomes remaining weak, many households have not been able to rebuild much of the wealth they lost during the recession as their home values declined and their financial investments fell sharply. Recouping these losses will take some time.”
In addition, recent increases “in energy costs associated with unrest in the Middle East and North Africa is a key risk. If the spike in oil prices is sustained, it will potentially slow the pace of GDP growth,” Pianalto said. “But these effects would be tempered by the fact that energy is less central to the service sector, which now represents about 60% of our economy, and even manufacturers and other large users of energy are far more energy efficient than they once were. Even if the growth consequences turn out to be relatively small, a sustained increase in the price of oil could cause some people to worry about higher inflation.”
But, she noted, “The natural question in these times is whether these higher prices will be enough of a driving force to cause a lasting increase in the rate of inflation. At this point, I don’t think they will, and let me explain why.
“First, large increases in food or energy prices have often been balanced out over time by sharp declines,” she said. “Second, to cause a lasting rise in inflation, the increases in food or energy prices have to be large enough and persist long enough that they spill over and cause sustained increases in a wide array of other consumer prices. At this point, there is no evidence of broad spillover, but as a central banker I keep a close eye on this.”
